Trading Lessons I Learned the Hard Way, Part 25

09/05/2012 7:00 am EST

Focus: STRATEGIES

Ron Wagner

Principal Partner, RevolutionaryTrading.com

Ron Wagner of Revolutionary Trading discusses the lessons he learned from his early days of trading, and how his trading has evolved to become profitable.

Find the previous article here. Start at the beginning here.

We are near the end of our journey, and I would guess you might be thinking, “What does a good program look like?” For each person, a good program will look different, but I can at least talk about how I constructed mine.

You know from the start of our journey that after I had lost a sizable portion of our savings, I had to rebuild our accounts. At first, we did a lot of options trades using our newfound technical analysis skills, with great success. I was only swing trading at that time, but holding for short periods with fairly tight stops, using trailing stops and incremental selling strategies.

It wasn’t until about the end of 1999 that we had enough funds to devote to both swing trading and daytrading, and I was still working full time. We could only get 2:1 margin at that time, and because stocks were much higher priced during the dot.com bubble years, share sizing was a factor. We had to use smaller share sizes because of available capital. We also expected larger gains that were more easily achievable.

I didn’t know at that time that I would fall in love with daytrading, and it wasn’t until 2000 that I had time to devote to mastering that style of trading. We had enough capital by then to have two trading accounts. Angel did some swing trading, and she became good at that, while I chose to focus on daytrading.

Often, I had done trades during the day on something that we also had chosen to enter as a swing trade. Rarely did we hold any swing trades for more than a few days, and we were getting good results.

Let me first talk about what we discovered about our swing trading potential. We focused a lot on stocks that were priced between $10 and $50. Our maximum stop loss on a swing trade was $300. We knew where the technical stop was, and calculated the number of shares we could buy.

We rarely took a position more than $10,000, so we also had that maximum threshold. For example, if we were buying a $20 stock, we could not buy more than 500 shares using this threshold. The stop, based on our technical analysis, would be no more than 60 cents, so we would not violate our maximum $300 stop-loss.

We expected no less than a 3:1 reward, which meant we expected to see a minimum potential gain of $1.80, as in this example, which was possible over a several day period. The potential gain was a minimum of $900 in this case, and the maximum loss was $300...and would be less if stopped out on a trailing method we used.

Let’s use a $50,000 hypothetical account, and let’s say we did just ten swing trades per month. Of course, we had some losing trades, but our losses were few and small. If we had three losing trades that would cancel out three winning trades (to also include all commission charges), we would be left with a net four winning trades.

With an average gain of $750 per trade, that would be $3,000 per month or $36,000 per year. Even using this very simple calculation, where else could anyone get a return of 72%? That would be 6% per month, without using all of our capital every day, not taking a lot of risk, and only taking ten trades per month on average.

Most people think trading has to be much more complicated and we have to trade more. That is absolutely not true, as we found out. The market environment has to be right, in preferably a trending market, and we need to use very strict rules of trade entry and management.

OK, so now we have found our personal “black box.” It was right in front of us. All we had to do was scan our universe of stocks, which took about an hour per day, discuss what we liked best, and then enter those trades that qualified.

Sometimes we had many swings going on at one time, and at other times hardly any. It depended largely on the market environment. We never traded just because we thought we had to. We became very conservative, self-directed traders with a plan we could follow.

Then the daytrading started. I found I could make more money and more quickly with less risk by taking positions during the trading day. I know not everyone can do this because of other life commitments, including jobs, but this style of trading became my passion.

I was fascinated with how quickly money could be made on a daily basis, while so many struggled making far less working their hearts out. It actually didn’t seem fair...and I still struggle with that.

I traded all day, every day, and eventually became a trading machine. I was my own “black box.” My winning percentage has been high, since I chose to perfect my understanding of technical analysis. I was in control of my trading but had some occasional difficulties that I needed to overcome. It was not a perfect journey and I did have some bumps in the road.

Next: Why our swing trading never suffered any setbacks

|pagebreak|

Our swing trading never suffered any setbacks, as we had that nailed down in the late 1990s. We had to adjust our stop-loss amounts and our maximum investment amount. The markets have changed a lot over the years, and consequently our frequency of trading and trading ranges had to be adjusted along with the market environment changes.

Now I can talk about the daytrading part of my program. At first, I started trading 300 shares after paper trading for a period of time. Then I eventually built up to 1,500 shares, where I remained for a few years. I now trade larger share sizes, but that comes with more confidence and of course more capital.

Let me use the following example:

  • $30 stock price, which should be in reach of nearly everyone trading

  • 1,000 Shares would be $30,000 in buying power

  • $15,000 in account if 2:1 margin

  • $7,500 of capital used if a PDT account with $25,000 and 4:1 margin

  • minimum reward-risk is 3:1

  • minimum expectation would be 25 to 35 cents on a one-pivot move

  • using multiple time frame analysis, the stop would be less than 10 cents when appropriate technical analysis is used to place the stop properly

  • maximum dollar amount of stop using appropriate share sizing is $100

Now that we got that out of the way, it gets fun. How much could be made? $250 to $350, which is 25 to 35 cents on 1,000 shares. If I sold incrementally, I might make $200.

Let’s use an example of taking only three trades in a morning of trading. Say my one small losing trade was cancelled out with a winning trade, which would also cover all commission charges for all three trades. (I’m trying to keep this very simple using these examples.)

So I have a net gain of one winning trade of $200. You may be scoffing at this right now, but when I first started daytrading, this was magical for me. I was making a very nice six-figure income during most of my professional career. But this was a huge revelation to me. That would be $1,000 per week or about $50,000 per year, and that could triple an account of $25,000.

Now, extrapolate that to trading 2,000 shares per trade after building confidence, and we are now capable of making $100,000 per year—and without exceeding the capital needed, with a $25,000 PDT account having buying power of $100,000. In fact, using this example one could have bought 3,000 shares of a $30 stock.

I don’t know about you, but I found I was making this whole trading thing out to be much too complicated. I am telling you that this was a revolutionary discovery for me! Nothing fancy, nothing complicated, and not having to trade all day was a huge discovery for me.

I have since cut down how long I trade each day. I only take two or three carefully chosen trades each morning, and we only swing trade when the market environment is suitable. You can do the mathematical gymnastics using your own situation to help guide you, but I hopefully leave you with hope and desire to have a plan you can count on.

We don’t need “black boxes.” We can create easy programs that we can count on for ourselves. Most would have you believe otherwise. Putting in some good old-fashioned elbow grease, with a desire to become good at trading, is all you need.

I understand that not everyone has multiple accounts to divide up their resources to trade using different styles. You soon will if you follow a correct path towards building wealth and/or producing income.

If you have one account, figure out your plan. If you have a larger account that can be divided into two or more accounts, figure out how you can do that to achieve maximum gains while trading properly in different market environments.

The key ingredient to success comes from within each of us. Although trading can become easy if you follow a proper roadmap, many get lost along the way, just as I did when I first started. The main thing is to find your way, and get on the right path to success as quickly as you can before you lose your capital. Your financial capital and emotional capital both need to be protected at all costs.

Lessons learned:

  • Get out a pencil and some paper and figure out what you need to do in order to reach your goals! Most have never done this, and it's why so many fail at many things worthwhile.

  • Once you see how little it takes to reach your reasonably set out goals, make sure to learn how best to achieve those goals with the least risk possible! In fact, always paper trade for a while to make sure you have a solid trading/investing plan that works for you.

  • Many think of paper trading as a waste of time and that it is not the same as live trading. Some say they have never met a “poor paper trader.” I would answer to that; “I have never met anyone who could not successfully paper trade do well with cash!”

  • Never take more risk than is appropriate! Many talk about 1% or 2% as a maximum loss for your account. I do not subscribe to that ideology. The premise is that few would lose 50 or 100 times in a row and blow up their accounts. One would first need to learn to trade properly. So, I would suggest you not lose more than you feel is an acceptable loss per trade, so you trade properly and not in fear.

You can do this! Just make sure you know what your goals are and don’t overcomplicate things!

Next, in my final article in this series, I will tell you the most critical final elements of my journey, and the lessons I learned the hard way.

Ron Wagner can be found at Revolutionary Trading.

Related Articles on STRATEGIES